SCTY Outlook for 2016
SolarCity Corp (NASDAQ:SCTY) has a huge problem: analysts think the company has too much debt. They believe the firm’s loans could ultimately suffocate its share price, which is why they turned bearish on SCTY stock.
But don’t take my word for it. Just look at the insane amount of short interest on the stock. Or else, look at SCTY stock’s horrific performance over the last few months, or the long string of downgrades. All signs show the stock being dragged lower by pessimism.
Just this week, a Barclays analyst downgraded the stock. (Source: “Tesla Cousin SolarCity Downgraded On Rate Hike, Default Worries,” Investor’s Business Daily, June 20, 2016.) He’s worried about SolarCity getting buried under a mountain of debt, which isn’t unreasonable considering what happened earlier this year. Remember Sunedison Inc?
Less than a year ago, Sunedison billed itself as the world’s biggest renewable energy company…now it’s filing for bankruptcy. The company’s stock price crashed from $33.00 to $0.34, wiping out shareholders in the process.
Maybe that was a freak, one-time occurrence. But I think it’s too on-the-nose that Sunedison declared bankruptcy just months after the Federal Reserve raised interest rates. That rate hike helped push them over the edge.
Could the same thing happen to SolarCity? Analysts certainly think so. The Barclays analyst who downgraded the stock this week specifically cited rising interest rates as a major headwind for SCTY stock.
“[H]igher potential interest rates make us more cautious on the residential solar space given: 1) the sensitivity to financing cost in the ABS and tax-equity markets; and 2) the long duration nature of their consumer leases portfolio,” wrote Barclays analyst Jon Windham. (Source: Ibid.)
In plain English, that means another rate hike could make it expensive for SolarCity to expand. Without expansion, the company has no hope of reaching scale; without reaching scale, they have no hope of turning a profit.
Under that scenario, SCTY stock could almost certainly crash.
But is that nightmare scenario the one we’re facing? Other analysts think so, but I’m not 100% convinced yet. After all, rising interest rates could increase both costs and revenue. The company is borrowing to lease out solar panels to regular folks, but those people are paying interest to SolarCity. There’s interest on both sides.
So, if the Federal Reserve hikes rates in September or December, the effect on SolarCity could be…nothing. The costs and income might jump in equal measure, which would effectively neutralize the effects on SolarCity’s bottom line.
That’s what should happen. But we don’t live in an ideal world, so there are two things that could throw a wrench in SolarCity’s plans.
A Surge in Defaults
A sudden spike in delinquent loans could decimate SolarCity’s business. Think about it: if customers can’t afford an extra bit of interest on their monthly payments, they would have to default on loans. Since SolarCity is a highly leveraged business, it is vulnerable to an unexpected rise in defaults. An increase would cause investors to flee the stock, leading to huge losses for the remaining shareholders. You’ll hear analysts on Bloomberg or CNBC talk about the Fed’s rate hike decisions as a big picture story, but this is the kind of effect it could have if the Fed hikes rates at the wrong time.
Contrary to Econ 101, markets are not perfect. They don’t always price stocks correctly (what would be the point of investing if they did?), nor do they always deliver the correct outcomes. Sometimes, stocks like SolarCity get buried under a bad narrative. The downgrades and crashing stock price could impact their access to funding, which in turn would affect their stock price. It would be a death spiral that starts from bad press and an ill-timed rate hike from the Fed.
Don’t believe that markets can be imperfect? Consider bull markets, like when investors get so swept up in optimism that they create a bubble, or in bear markets, when top-shelf stocks trade at bargain-bin prices because investors are too scared to take a risk. Both of those scenarios prove that SolarCity could take an unfair hit.
In any case, there’s way too much uncertainty surrounding the stock right now. I would steer clear until after the Federal Reserve’s next rate hike, which should come before the end of the year.